Presentation Toulouse, June 4, 2014 The impact of energy prices on energy efficiency: Evidence from the UK refrigerator market François Cohen*, Matthieu Glachant** and Magnus Söderberg** * GRI, LSE, **CERNA, MINES ParisTech
The energy efficiency gap • A popular concept in policy circles – Potentially large differences between the socially and the actual level of energy consumption • Two reasons – The standard externality problem : energy production and use generate health and environmental damages (in particular, fossil fuels) – The potential existence of investment inefficiencies : imperfect information and other cognitive constraints may lead consumers to discard privately profitable investments in energy efficiency 2
Investment inefficiencies • Any investment in energy efficiency entails – An upfront cost (a more expensive fridge) – A stream of future benefits (energy savings) • Investment is inefficient if consumers use too high a discount rate – Consumers are « myopic » • They buy refrigerators with a too low level of energy performance • A rather old literature provides some evidence of very high discount rates – 39 ‐ 300% for refrigerators: Revelt and Train, 1998; Hwang et al., 1994; McRae, 1985; Meier and Whittier, 1983; Gately, 1980; Cole and Fuller, 1980 3
Policy implications • Increasing energy prices is likely to trigger limited energy savings in the residential sector – Relative to energy efficiency standards or economic incentives targeting the investment decisions • Two market failures = two instruments – A tax on energy use to internalize externalities – an instrument targeting the investment decisions (feebate for new cars, tax rebates for insulation, etc.) 4
Supply responses on the fridge market An increase in energy prices which lowers the demand for refrigerators, in particular less energy ‐ efficient models, also potentially induces: 1. cuts in refrigerator prices Cuts are larger for less ‐ energy efficient models. – Depends on the degree of competition in the market – 2. changes in the product portfolio supplied in the market The launch of energy ‐ efficient models, the withdrawal of – less efficient ones 5
This paper What is the impact of energy prices on residential energy use, taking into account both demand and supply responses? 1. How large are investment inefficiencies in energy use? Which reduce the impact of energy prices on energy use – The level of the implicit discount rate – 2. How large are refrigerator price adjustments? – Which reduce the impact of energy prices on energy use 3. How large are adjustments of product offers? – Which increase the impact of energy prices Using product ‐ level panel data from 2002 to 2007 on the UK • refrigerator market 6
Demand T markets, each representing the UK refrigerator market during year t with J • (differentiated) products Bertrand competition • Indirect utility of consumer i who purchases a new refrigerator j in year t • � �,�,� � � �,� � � �,�,� where � �,� is the average utility and � �,�,� is consumer i’ s heterogeneity Under certain assumptions, in particular: • – A consumer can also choose an outside option indexed 0 which consists in purchasing no refrigerator – Consumers’ idiosyncratic preferences are correlated across refrigerators within the same product group (nest), and zero otherwise Berry (1994) derives: • ln � �,� � ln � �,� � � ln � �/�,� � � �,� where � �,� and � �/�,� are respectively the market share of the outside good and of product j within its nest g at time t This equation can be estimated with market ‐ level data 7
Average utility � �,� � � �,� � � � �,� � γ� �,� with: � �,� , the value of usage of the refrigerator j over its lifetime � �,� , the purchase price � �,� is the electricity cost of the product which is forecasted at the time of purchase � is the marginal utility of money γ is the parameter capturing the size of investment inefficiencies A key objective of the paper is to test: � = 1 8
The electricity cost The (discounted) lifetime electricity cost of product j is � � ∗ � ��� � �,� � Г � � � 1 � � � ��� Where: Г � is the level of energy consumption per time period • � � is product j ’s lifetime • is the discount rate • ∗ � ��� is the forecasted electricity price at time � � � • 9
Econometric issues ∗ � ��� is not the actual price, but the price that is anticipated at the date of • purchase. – Solution : Predicted with an autoregressive integrated moving ‐ average model (ARIMA) on monthly data on real electricity prices � �,� is not observed. • – Solution : We assume u �,� � u � � ξ �,� , which can be partly controlled using first differences � �,� is endogenous because quantities and prices are simultaneously determined • in the market equilibrium – Solution : IV ‐ GMM estimation; instruments: out ‐ of ‐ group and within ‐ group average capacity and out ‐ of ‐ group price The estimated specification is • ∆�� � �,� � �� ∆� �,� � �∆� �,� � ∆� � � ∆� �,� where ∆� � are time dummies absorbing the outside good market share and other time varying factors 10
Refrigerator price A reduced ‐ form equation: • � �,� � � � �,� � �� �,� � � �,� where � � �,� is the price of product j at time t if electricity cost during its lifetime is zero and � �,� is an error term. We do not observe � � �,� . We assume that: • � � �,� � � � � � � � We estimate: • ∆� �,� � ∆� � � �∆� �,� � �� �,� � ∆� �,� where � �,� is the vector of instruments 11
Product offer We observe the products in the market • A dynamic probit model: • ∗ � �,� � Ф � � � �,��� � � � � �,� � � � � �,� � � � � � � Where � �,� is the probability product j is in the market at time t • ∗ � �,��� is a binary variable indicating whether the product was in the market at • time t ‐ 1 � �,� and � �,� are the product price and electricity cost • � � and � � are time dummies and fixed effects • Problem : � �,� is not observed when the product is not in the market Solution: multiple imputations (Wooldridge, 2005) 12
Data GfK sales data for the UK market – 2002 ‐ 2007 Variable Unit Mean Std dev Annual sales # of units 2226 5054 Purchase price, � �,� real £ 402 289 Appliance lifetime, � � years 15.38 2.34 Energy consumption, Г � kWh/year 320 145 Height cm 142 43 Width cm 60 10 Capacity litres 252 115 Energy efficiency rating a 2.46 0.88 Share combined refrigerators ‐ freezers 0.55 ‐ Share of built ‐ in appliances 0.22 ‐ Share of appliances with no ‐ frost system 0.24 ‐ Instrumental variables Within ‐ group: capacity litres 254 111 Out ‐ of ‐ group: capacity litres 268 22 13 O f i l £ 408 226
Results (1): Sales Dependent variable Eq. (6): Log market share of product j Importance of total electricity costs ( γ ) 0.6007*** (3.32) Utility for money ( α ) 0.0056*** (2.82) Within ‐ group correlation of error term ( σ ) for 0.6522*** the demand equation (5.59) Year dummies Yes Observations 1,623 Test of over ‐ identifying restriction Hansen's J chi2(2) = 1.80 (p = 0.4060) Investment inefficiencies are limited = � ≅ �. � ⟺ ������� �������� ���� �� ��% 14
Results (2): Price Dependent variables Eq. (7): Price of product j Impact of discounted electricity costs on ‐ 0.2860*** appliance prices ( η ) (2.83) Out ‐ of ‐ nest price ‐ 3.11*** ( ‐ 3.7) Out ‐ of nest capacity 11.27*** (4.5) Within nest capacity 1.19 (1.35) Year dummies Yes Observations 1,623 Manufacturers/retailers reduces prices in response to an increase in electricty cost 15
The price response is asymmetric • The impact of a 10% increase of the electricity cost is higher on less energy efficient models: A++ A+ A B C D E G 10.00% +0.01‰ +0.04% ‐ 0.06% +0.13% ‐ 0.11% +0.02‰ ‐ 0.01‰ ‐ 0.02‰ 5.00% 0.00% ‐ 5.00% ‐ 10.00% ‐ 3.4 ‐ 6.9 ‐ 10.1 ‐ 11.5 ‐ 11.7 ‐ 6.0 ‐ 22.6 ‐ 13.7 ‐ 15.00% Relative change in price Relative change in sales Manufacturers/retailers partly compensate the electricity price increase 16
Results (3): Product offer Dependent variables Eq. (10): Availability of product j The product was commercialised the year 0.9124*** before ( � � ) (37.16) Appliance price ( � � ) ‐ 0.0011*** (3.89) Expected and discounted running costs ( � � ) ‐ 0.0024*** (3.44) The product was commercialised in 2002 ( � 1 ) ‐ 0.5715*** (17.70) Nonredundant explanatory variables covering all time periods and including time ‐ constant Yes product features ( � � ) Year dummies Yes Observations 12,160 Number of imputations for appliance prices 10 1. Electricity cost has a significant impact 17
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